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CALIFORNIA CORPORATE & SECURITIES LAW

Commissioner Gallagher Posits SEC Would Prevail Against Harvard University

Just this week, Commissioner Daniel M. Gallagher and former Commissioner Joseph A. Grundfest issued a draft of a paper that takes on the Harvard Shareholder Rights Project.  The Harvard SRP describes itself as “a clinical program operating at Harvard Law School and directed by Professor Lucian Bebchuk.”  From 2012 through 2014, the Harvard SRP focused on proposing precatory shareholder resolutions under Rule 14a-8 seeking the elimination of staggered boards.  It claims that 121 companies receiving these proposals “have agreed to move toward annual elections following the submission of board declassification proposals for 2012, 2013 and/or 2014 meetings.”

The Commissioners take issue with the Harvard SRP’s reliance on academic research finding that staggered boards are inimical to shareholder interests.  They note that the Harvard SRP omits the larger body of academic research that contradicts the research relied upon by the Harvard SRP.  They claim not to take sides in the debate over the merits of board classification, but they do conclude:

  • The Harvard SRP proposal could be described as materially false and misleading because it omits the contradictory research;
  • The staff of the Securities and Exchange Commission could issue no-action letters allowing companies to exclude the Harvard SRP proposal because it is false and misleading (assuming the proposal is not modified);
  • The SEC should be able “to demonstrate that the omission of the contradictory research was at least negligent, that the Harvard SRP is the “maker” of the statement for purposes of Janus [Janus Capital Group, Inc. v. First Derivative Traders, 131 S. Ct. 2296 (2011)], and that doctrine of respondent superior applies so as to make Harvard University liable for the action of the Harvard SRP;
  • Private parties “should be able to” show causation and prevail under Rule 14a-9;
  • The two largest proxy advisory firms [ISS and Glass Lewis] have failed to consider recent empirical findings suggesting that classified boards are beneficial for shareholders.

Daniel Gallagher is a sitting Commissioner and his co-authorship of this paper could lead arguments that he must disqualify himself should the issue actually come before the Securities and Exchange Commission.  It is unlikely that it would because SEC enforcement would take the form of a civil enforcement action before an Article III judge.  The most famous case dealing with claims of prejudgment in administrative proceedings is Cinderella Career & Finishing Schools, Inc. v. FTC, 425 F.2d 583, 591 (D.C. Cir. 1970) which enunciated the following test:

The test for disqualification has been succinctly stated as being whether “a disinterested observer may conclude that [the agency] has in some measure adjudged the facts as well as the law of a particular case in advance of hearing it.” Gilligan, Will & Co. v. SEC, 267 F.2d 461, 469 (2d Cir.), cert. denied, 361 U.S. 896, 4 L. Ed. 2d 152, 80 S. Ct. 200 (1959).

This provocative paper can be downloaded here.

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